The reallocation of output across plants and the productivity growth at individual plants
are both important sources of productivity growth at the industry level. Recent evidence
has shown that trade liberalization is related to both effects. While a trade model with firm
heterogeneity can account for the first effect, it can not explain the second effect. We add to
this model the option for firms to costly adopt more productive technologies and show that
plant productivity actually rises in response to lower trade costs. Following trade liberalization,
selection into exporting raises the market share only for some exporters. Therefore, a greater
scale of operation amplifies their return from costly productivity-enhancement investments and
leads a greater proportion of them to implement a more innovative technology.